Saturday, November 22, 2008

Peter Cooper Village Stuyvesant Town

This is going to be a long post. I wanted to walk through the PCV/ST loan and some possible outcomes

Peter Cooper Village/Stuyvesant Town (PCV/ST) is an 11,227 unit multifamily complex built decades ago by MetLife for the working class. Blackrock and Tishman-Speyer purchased it in 2006 for $5.4 billion, larger than any other real estate transaction in the US – ever. The senior note serves as collateral in four different CMBS deals, with a total of close to 100 bonds, and is part of two CMBX indices, CMBX.4 and CMBX.5. It is a big deal.

The intended strategy was to kick out the rent-control tenants (paying under $2k in NYC, many are paying around $1,200 at PCV/ST) and move in market-paying tenants (lowest available market rent apartment is a 1-bedroom in the bargain basement for about $3,000). With the high number of rent-control tenants, the apartment complexes don’t bring in enough income to even pay their first mortgage (much less the additional debt), so the underwriters required that they set aside a large reserve account ($400 million) to help pay the debt service while they were in the process of kicking out the despicable rent-control tenants living off the back of the rest of us executing and monetizing their business plan. Perhaps a little unpalatable, but a relatively easy to follow strategy.

As one might expect, assuming you haven’t been on an island (did anyone see the article on the last page of Bloomberg magazine last month on Necker Island – my daughter walked in while I reading it and insists that we must go. No matter that a single night cost more than we’ve set aside for her entire college expenses. I need to add a donate button to this website asap!), the strategy is not going exactly as planned given the anticipated job losses in NYC and, frankly, the difficulty of kicking out rent control tenants in the first place. This is not the only JV that created a plan to flip rent-controlled units to market-paying tenants in NYC and financed via the CMBS market. Further, it turns out that the strategy really is pretty unpalatable despite successfully kicking out many who were gaming the system. Not to point fingers, but Charles Rangel (as in Rep. Charles Rangel, HEAD of the House Ways and Means committee) had FOUR rent-control units at Lenox Terrace; one was being used as campaign office before the landlord took that one back. They also kicked out Mick Jagger’s ex-wife because she isn’t even a legal US resident, and won a lawsuit in October 2008 to that effect – other, related, lawsuits remain undecided at the time of this writing. I'd be very concerned if not a US citizen living on rent control - the PE guys are going to exploit this strategy...

NYC mayor Bloomberg, and others, helped get new laws in place in March 2008 that allowed tenants to fight back when landlords wrongly tried to evict them. Part of the strategy, you see, is to sue every tenant possible over the tiniest of things with the hopes that they’ll find it too expensive and a waste of time, and just move somewhere else. There was not a lot of recourse for the tenants, so the landlord could do this over and over to the same tenant. Not anymore – three times constitutes harassment under the new law, and an addendum to the law (currently being considered) may allow for the tenant to sue for damages three times their legal costs for defending themselves. Needless to say, there are roadblocks in place now, that were not taken into consideration when these loans were originated.

PCV/ST is not going as planned, but it’s also not really as bad as some would have you believe. Moody’s states that their debt service reserve (put in place to ensure they could pay their mortgage while they deregulated units) will run out sometime in 2009. Although they have kicked out number of tenants in rent-controlled units (about 1,000 so far), they’ve mostly been one bedroom units, which just aren’t as profitable to deregulate. They’ve also spent a ton of money improving the “Oval” area, and improved landscaping throughout. They’ve unsuccessfully taken nearly 400 tenants to court since the loan was originated (that is a lot of pissed off tenants).

Moody’s calculators must work differently than any that I’ve tried, which is likely related to their poor job at rating deals. The last few draws on the reserve account have been around $10 – 11 million, and the balance was around $165 million last month – give or take a million or two. So, if they are unable to deregulate any more units at all, and keep occupancy roughly in line, they have 15 months of reserves left (right? 165 divided by 11 equals 15). Some reasonable inputs can get you out to 24+ months with a straight face. It’s not running out of money in the very near future.

Utilities, traditionally paid by the landlord, have cost around $10 mm a year (a little more this year). They started installing meters in October 2008 and are going to bill the tenants. All of the fancy landscaping and changes to the Oval – that is what you call a Major Capital Improvement, or an MCI, and you bill your tenants for it. The Oval will have some new services next year and memberships will be available for $250 per year and $25 a month. To twist someone else’s words about the landlords – if anyone can squeeze blood out of this turnip, it’s the heartless MDs young professionals leading the effort.

Now, I’m not saying this is going to work out, I’m just saying it’s better off than the Savoy or Riverton, or any number of similar, albeit smaller, deregulation projects. And, the real problems are quite a ways off. Further, how do you short it? Hedging is more expensive than ever before, not to mention that this is only a small part of the CMBX indices. Heck, let’s say it defaults in 16 months, and let’s assume that it takes a couple of years until the loss actually takes place (it’s extremely reasonable to expect a 1.5 to 2 year disposition period before the asset is resold) – You’re in 2011 or later before the CMBS deals are at risk of a loss. One of the rating agencies have pegged the current appraisal value at a 10% discount to the origination level – the senior mortgage LTV still implies a $0 loss.

However, I think it will make for some great headlines. There are a number of blogs that are almost entirely, or have PCV/ST sections, devoted to this one property, and its frequently used in 'exposes' in such fine publications as WSJ, NY Observer, Barron's, Crain's, and others. Its also in NYC, where all the financial researchers and journalists live (its close to home, they ARE aware of it), and it has a massive $4.4 billion mortgage (multiple senior and junior portions).

What is the play here? For CMBS investors, pray for the headline risk, pick up the AAA bonds off the four deals this loan is on. WBCMT 2007-C31 is a fine play, but the upside is rather limited to be honest. WBCMT 2007-C30 is a good one - no real downside, but there is some upside if this particular loan defaults (you get paid back quicker... at par, with AAAs trading at $0.50 to $0.60 cents on the dollar - that could be vewy nice!).

I actually have a better play that I'm not disclosing at this time, but I'm willing to share it for a small advisory fee.


Anonymous said...

i've been reading you for a while

any comment on the missed payment today? or any way you'll part with your investment idea??

ashwinashwin at gmail

Concrete Jungle said...

It was widely anticipated. I think I had forecasted it to miss in November, at the earliest, to February, at the latest. This is a pretty old post, but I've updated it a few times. See here:

I don't think it changes anything. Estimated losses on the senior note range from 0% to 40% from reasonable guesstimations. In reality, you'll likely see shortfalls in the very near term on interest, and I believe investors will most likely have to live with some modified loan structure that hurts the CMBS. I do NOT think we'll see some quick liquidation and fire sale though.